If you've ever taken out a loan, you might wonder exactly what
standard it is that banks and other lenders use to determine
whether the collateral that you offer is good enough to secure
the loan that you request and how much interest they're going to
charge you for that loan.
One of the major factors that is used in making this
determination is the loan-to-value ratio, which helps to tell a
potential lender exactly how much of a risk they might be taking
in issuing a particular loan based upon the collateral that is
The loan-to-value ratio can be a major factor in loan approval
decisions, but in the end it's simply a comparison of how much
certain collateral is worth compared to how much an individual
wants to borrow.
The information provided below should shed a little more light
on this important but often overlooked consideration.
Looking at the Ratio
In order to best understand how a loan-to-value ratio works, you
should take a moment and consider exactly what the name of it
implies. If the loan that you're requesting is for more than the
value of the collateral (hence, loan-to-value), the likelihood
of the loan being approved isn't very good especially if you
have less-than-perfect credit. The loan amount divided by the
collateral value (to get the ratio) ends up being a number
larger than 1... that's bad. If you take the other option in
this scenario and request a loan for an amount that is much less
than the value of the collateral, then the ratio ends up being a
number that's less than 1. The smaller this number is, the
In order to determine the percentages involved in this ratio,
simply multiply your result by 100. If the result is over 1,
then the requested amount is over 100% of the collateral's
value. You want to be well under 100%, since if the lender has
to take possession of the collateral and put it up for sale
they'll have additional expenses that also need to be covered by
the value of the collateral.
Determining Collateral Value
While you might be able to have your collateral appraised in
order to determine the value, lenders are likely to use their
own appraisers or the standard market value of similar items if
the standard market value can be determined. This includes the
"blue book" value of vehicles, as well as the going rate in
standardized value guides for most collectables.
To make matters worse, lenders also look at the availability of
a market for the collateral item... the harder it would be for
them to find a buyer for the item in question, the lower the
loan-to-value ratio needs to be. You should keep this in mind
when determining your collateral for your loan and attempting to
find a standard value for it.
Optimizing Your Loan-to-Value Ratio
In order to get the most out of your loan-to-value ratio, it's
important to try to use a high-value item with an
easily-accessible market as your collateral. Vehicles, real
estate, and home equity are common forms of collateral in large
part due to their relatively high value and the ease of working
with them should the lender need to take possession.
If you can't seem to get the collateral value where it needs to
be, you can also reduce the amount that you're asking for in the
loan... this will also help to bring down the ratio and make you
much more likely to be approved.
You may freely reprint this article provided the following
author's biography (including the live URL link) remains intact:
About the author:
John Mussi is the founder of Direct Online Loans who help
homeowners find the best available loans via the www.directonlineloans.
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